Eurozone Inflation Hits ECB’s 2% Target as Price Pressures Finally Ease

December inflation data marks symbolic milestone after years of turbulence, though markets remain divided on whether European Central Bank will resume rate cuts in 2026

Inflation Returns to Target

Eurozone inflation fell to precisely 2.0% in December, meeting the European Central Bank’s price stability target and reinforcing signs that the sharp surge in consumer prices seen over recent years is finally subsiding. Flash estimates published by Eurostat on Wednesday showed the annual rate slowed from 2.1% in November, exactly in line with market expectations and marking a symbolic milestone for policymakers who spent the past three years battling inflation rates that peaked above 10%.

Underlying price pressures also continued their gradual decline. Core inflation, which strips out volatile food and energy components and is closely monitored by the ECB’s Governing Council, fell to 2.3% year-on-year from 2.4% in November—its lowest level since August. On a monthly basis, consumer prices rose by just 0.2% in December, rebounding modestly from a 0.3% decline the previous month.

Energy Deflation Drives Headline Decline

Energy prices remained firmly in negative territory, falling 1.9% compared with a year earlier—a key factor behind the broader slowdown in headline inflation. The decline represents a sharp acceleration from November’s 0.5% drop and reflects both favourable base effects and sustained weakness in global oil markets. Food, alcohol, and tobacco prices rose 2.6%, the highest rate since September, while services inflation—the most persistent component—edged down to 3.4% from 3.5% in November.

Non-energy industrial goods inflation remained subdued at 0.4%, slightly down from the prior month, as retailers navigated weak consumer demand and increased competition from Chinese imports. The divergence between stubborn services inflation and falling goods prices underscores the complex dynamics facing ECB policymakers as they assess the sustainability of the current inflation trajectory.

Wide Variations Across Member States

Inflation rates varied dramatically across the bloc, highlighting persistent economic disparities within the monetary union. Cyprus recorded the lowest annual inflation at just 0.1%, while Estonia and Slovakia tied for the highest at 4.1%. Germany’s inflation came in at 2.0%, sharply down from November’s 2.6% reading, while France posted a surprisingly weak 0.7%. Italy and Spain recorded rates of 1.2% and 3.0% respectively, with the Netherlands at 2.5%.

The wide dispersion in national inflation rates—ranging across 40 percentage points—complicates the ECB’s one-size-fits-all monetary policy and could fuel renewed debate about the appropriateness of the single currency framework for economies at vastly different stages of the economic cycle.

Market Reaction and Policy Outlook

Financial markets showed limited immediate reaction to the data. The euro held steady at $1.1685 against the dollar, while the pan-European Stoxx 600 index remained broadly flat. German Bund yields fell five basis points to 2.78%, reflecting investor confidence that inflation remains under control. Germany’s DAX extended its rally to a fresh record high of 25,150, marking a seventh consecutive day of gains led by industrial giants Siemens and Siemens Energy.

With both headline and core inflation now stabilising within the target range, financial markets see limited scope for immediate action by the ECB. According to the betting platform Polymarket, there is a 97% probability that interest rates will remain unchanged at the next Governing Council meeting in February. The odds of a rate cut at any point during 2026 stand at 45%, while a rate hike is viewed as highly unlikely at just 11%.

ECB’s Delicate Balancing Act

“The key takeaway is that price pressures are normalising after several turbulent years,” said Professor Emeritus Joe Nellis, economic adviser at MHA. “Headline and core inflation are now moving within a relatively narrow range, which suggests that the extreme volatility of the recent past is behind us, even if risks have not disappeared.”

The ECB held its key deposit facility rate at 2.0% for a fourth consecutive time in December, following its last rate cut in June. The central bank’s latest staff projections show headline inflation averaging 2.1% in 2025, dipping to 1.9% in 2026, falling further to 1.8% in 2027, before returning to exactly 2.0% in 2028. Core inflation is expected to decline more gradually, stabilising at 2.0% by 2027-28.

However, policymakers face a complex set of crosscurrents that make the path forward uncertain. Falling energy costs, a strong euro, surging Chinese imports, and moderating wage demands could all pull prices lower. Offsetting these disinflationary forces are increased defence spending, Germany’s anticipated fiscal expansion, a tight labour market, healthy domestic demand, and ongoing geopolitical stress—all of which could push prices higher.

“The ECB’s task now is to support a recovery without allowing inflation to reignite,” Nellis added. “That balancing act will define the policy debate over the coming months.” Michael Field, chief equity strategist at Morningstar, noted that while the 2% reading is “minor,” it gives the ECB justification for potential rate cuts in 2026, which “should please equity markets.”

The evolving geopolitical landscape adds another layer of complexity. Professor Nellis highlighted that the potential release of Venezuela’s vast oil and gas resources following recent US actions “could influence Eurozone prices later in the year,” though the direction and magnitude of such effects remain highly uncertain.